While the change in insurance co-pay terms for new policies could have some negative near-term impact, we see limited impact on Raffles Medical Group, given its group practice model, price transparency and peer-doctor review.

Maintain BUY and DCF-based target price of S$1.32.

WHAT’S NEW

Concerns over proposed regulatory changes in insurance policies.

With immediate effect, new insurance policies with riders or existing policyholders buying a new rider will need to eventually pay at least 5% of his/her hospital bill. However, the amount the policyholder needs to pay can be capped at S$3,000/year although insurers can set a higher threshold. The S$3,000 cap would only apply if patients are treated by doctors on the insurers’ panel.

A recap on riders.

Riders can be purchased on top of an integrated shield plan (IP) that allow the patients to either co-pay (partial rider) or full riders that allow patients to not pay their hospital bills. In Singapore, about 3.9m people have insurance and an estimated 29% have IP with full riders.

The issue is that policyholders with full riders have bills that are, on average, 60% higher than policyholders without riders. This has led to rising insurance premiums for all policyholders, including those with a basic MediShield Life plan.

STOCK IMPACT

Reining in surging costs.

The latest change in regulations should not be entirely surprising as insurance premiums have surged by up to 80% for integrated shield plans without riders and 225% for integrated shield plans with full riders. The reason for the sharp rise in premiums is to address the potential for “over-consumption, over-servicing and overcharging”.

Following the surge in claims, all the six insurers in Singapore suffered underwriting losses in 2016, and we think that this led to higher premiums for all new policyholders.

Assessing the exposure.

In terms of potential impact, we believe there would be limited near-term impact on Raffles Medical Group (RMG). The segment that would be impacted by this change would be patients that rely on insurance coverage, which would exclude most of RMG’s foreign in-patients. Foreign patients still account for about one-third of RMG’s in-patient load and tend to have higher billing intensity. Local patients paying by insurance is estimated at 20-30% of the total in-patient load.

Using 2017 pre-tax profit, we estimate 12-18% of RMG’s pre-tax is exposed to the insured market. However, we caveat that the estimated 20-30% of patients paying via insurance could be understated since there are patients who could have settled the hospital bills personally and subsequently claimed from their insurers.

What the regulatory changes are trying to address.

The regulatory changes target to reduce over-charging and over-consumption of medical services.

In the case of Raffles Medical Group (RMG), we believe its business model would inherently help to avoid this. This is because RMG’s group practice model allows doctors to focus on medical excellence and a good outcome for patients rather than profitability. There is also medical fee transparency for RMG’s treatment. More importantly, all in-patient treatment and operations are subject to a peer review by a panel of medical doctors. In our view, this helps avoid unnecessary procedures or treatment that may not enhance the treatment outcome for patients.

All things considered, we see limited near-term impact. Depending on the overall hospital bill, it is estimated that the change in regulations will result in patients paying S$500-800 for every S$10,000 incurred in hospital bill after the change in regulations in insurance rider.

EARNINGS REVISION/RISK

No change to earnings, which could see a gradual decline due to new capacity.

We forecast Raffles Medical Group’s net profits to decline gradually and are expected to trough in 2019 upon the opening of its Shanghai hospital. Thereafter, we expect a gradual recovery and the utilisation of its new hospitals in Chongqing and Shanghai to rise after their opening in 4Q18 and 2H19 respectively.

VALUATION/RECOMMENDATION

Maintain BUY and DCF-based target price of S$1.32.

Although Raffles Medical Group’s earnings outlook for the next two years is expected to be lacklustre, its long-term growth potential will be significantly enhanced in the next decade due to a near quadrupling of capacity (from around 200 to 1,300 beds when its China hospitals are fully opened).

Also, adjusting its ROE to exclude investment properties, its 2017 ROE was a respectable 19.3%. For investors with a longer-term horizon, Raffles Medical Group’s relative underperformance (30% below the FSSTI) over the past year is an accumulation opportunity.

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